Abstract
The theory of real options determines the optimal time to invest in a project of given size. As a main result, it is found that in a more uncertain environment, it is optimal for a firm to delay its investment. In other words, uncertainty generates a “value of waiting.” Recently, contributions appeared that in addition determine the optimal size of the investment. This paper surveys this literature. As a general result, it is obtained that more uncertainty results in larger investments taking place at a later point in time. So, where from the traditional real options literature one can conclude that uncertainty is bad for growth, this is not so clear anymore when also the size of the investment needs to be determined. The survey consists of two parts. First, we present single firm models, and second, we give an overview of the oligopoly models that have appeared up until now.
Highlights
The field of real options theory took off with the seminal book by [12]
This book considers the standard problem of a firm that needs to find the optimal time to undertake a lumpy investment project
Della Seta et al [11] analyze the investment decision of a firm that can invest in a technology involving a learning curve
Summary
The field of real options theory took off with the seminal book by [12]. This book considers the standard problem of a firm that needs to find the optimal time to undertake a lumpy investment project. In most investment problems, it is important to determine the capacity size a firm will invest in This is recognized by [18, p.1828] in a review of [12], which argues that “the new view models . The present paper intends to survey the literature that considers investment problems from the view that both timing and size need to be determined. Where from the traditional real options literature it could be concluded that uncertainty is bad for growth, this is not so clear anymore when capacity size needs to be determined This illustrates how important it is to study the capacity issue next to the timing decision.
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